Cargo Slump Threatens More Pain For 747-8

October 31, 2011

Boeing is battling to prevent teething problems on its 747-8 freighter from turning into a wider customer revolt as jittery airlines seize on a chance to curb their exposure to a slump in the global freight market, industry sources said.

The largest plane built by Boeing, a stretched version of its 747 jumbo, has already been hit by a three-week-long dispute over engine performance that delayed delivery to Cargolux, the plane's launch customer. Another buyer cut its order by 25 percent.

Now, the fallout from underperformance risks eating into profit margins elsewhere as Boeing dangles concessions to prevent other customers from jumping on the bandwagon.

Notably, Cathay Pacific, the world's largest international air cargo carrier, reconsidered an order for 10 747-8 freighters. But Boeing assuaged the airline with concessions on a recent order for eight 777 freighters, industry sources briefed on the discussions said.

Boeing and Cathay Pacific declined to comment.

Boeing's rearguard action comes as the company disclosed a new delay to the passenger version of the 747-8 and global airlines warned of cutbacks in fleet sizes following a downturn in the cargo market.

The International Air Transport Association (IATA) this week warned of further declines after significant cargo market deterioration in the third quarter. Sagging consumer confidence in the West has slowed the world's trade lanes, and Deutsche Bank said on Friday that Chinese and Indian demand was also weaker.

BOEING WATCHING CARGO MARKET

Boeing chief executive Jim McNerney this week described the fading freight market as a "watch item" when asked whether the economy could affect orders for the 747-8.

"The last couple of months there has been some softening," McNerney said. "But the path on these growth curves is often up and down, quarter by quarter."

Aerospace experts say that while the 747-8 has suffered birth pangs, manoeuvring by customers makes sense ahead of an anticipated economic downturn."

"The initial production batch looks underwhelming," said Teal Group aerospace analyst Richard Aboulafia. "And given that traffic numbers are underwhelming too, the incentive to defer (orders) has increased significantly.

"For the past three months, the cargo numbers look an awful lot like a double dip (recession)," he said. "Cargo numbers like these are typically advance warnings of things going down."

The problems facing Boeing and engine supplier General Electric fall short of the buyer rebellion and engineering bottlenecks that forced Airbus to suspend plans for a competing freighter version of the A380 superjumbo, after its orders evaporated.

Boeing has 75 orders from eight customers for the freighter version of its updated 747, which lists at USD$319.3 million.

The 747-8 freighter and an upcoming passenger version promise to burn less fuel than previous 747s. The plane also has new wings, a new tail, state-of-the-art engines and a new cockpit.

Although later batches of new planes often perform better than earlier ones, the darkening economic backdrop has given extra urgency to talks to shore up the 747-8, whose problems have distracted Boeing from its main priority of building more than 800 carbon composite 787 Dreamliners.

"Certainly further deferrals, which wouldn't be a surprise, would hurt this (747-8) programme even more," said Alex Hamilton, managing director of EarlyBirdCapital. "I wouldn't argue it's an overwhelming success."

In an embarrassing setback to both Boeing and GE, Luxembourg-based Cargolux refused at first to accept the initial 747-8 aircraft because of a 2.7 percent shortfall in the performance of General Electric's engines.

The plane, originally scheduled for delivery on September 19, finally left the Boeing assembly plant near Seattle for Luxembourg with little fanfare on October 12.

Another customer, Atlas Air Worldwide, scrapped three out of 12 orders in September, citing delays and performance, but still hailed the 747-8 as a "cornerstone" of its future growth.

GE said it was making improvements to the engine, which is similar to a model that will power more than half the 787s already sold.

"Fuel burn on the engines has been well-understood for a long, long time," spokesman Rick Kennedy said. "We're fighting like crazy to get there, and we've got a plan that will meet it."

Attention will now turn to other carriers in Asia, which IATA says is the region worst hit by the cargo downturn.

Industry sources say a key test of confidence will be whether Korean Air, the world's second-largest international air cargo player after Cathay Pacific, and Nippon Cargo Airlines, part of Japan’s biggest shipping company Nippon Yusen, weaken their resolve to buy a combined total of 21 747-8 freighter aircraft worth USD$6.7 billion.

Korean Air is scrutinising the aircraft's performance particularly closely, two industry sources said. The airline declined to comment.

Besides engine woes, the 747-8 freighter is also up to 8 or 9 tons overweight, according to industry reports. Boeing has not confirmed that estimate. Additional weight is common in new planes but can reduce the distance a plane can fly or the amount of cargo it can carry.

Boeing spokesman Jim Proulx, who said weight reduction is part of any plane production program, pointed to numerous advantages of the new planes -- even the first ones assembled.

"It's important to remember that, from the day these airplanes are delivered, they provide airlines a leap forward in performance over the airplanes they replace: double-digit improvements in fuel burn, operating cost and lowered emissions; 16 percent more revenue-generating capacity; 30 percent less noise," he said.

"And we are continuing to make improvements that can be rolled into these airplanes after they're already in service," he said.

THE GIVE AND TAKE OF AIRPLANE ORDERS

The ability of any airline to reduce orders or extract penalties depends on contractual guarantees concerning factors such as fuel burn, payload and range or the ability to link certain cities, which tend to be customised to each airline.

It is harder to cancel planes for performance reasons than for late delivery. Still, the 747-8 freighter is running two years late, which is said to be a typical industry threshold for cancellation clauses.

In such negotiations engine makers can play a decisive role as they have the bargaining power to offset the performance of new engines against spares and maintenance on old equipment.

Nearly all 747-8 freighter buyers have significant quantities of GE engines on previously ordered aircraft, especially Cathay Pacific, a major user of GE-powered 777s, and Korean, which operates or has ordered more than 60 GE-powered planes.

Boeing this week announced a further delay in deliveries of a 467-seat passenger version of the 747-8 to early 2012 from the fourth quarter of 2011.

That version is not yet a major force, with 36 sold and a quarter of those destined for VIPs or governments, but its progress is seen as a useful gauge of the volume of changes coming out of the flight tests as Boeing works to keep the programme on track.